Deutsche Bank’s Record Fine

Deutsche Bank has been issued with the largest fine of any bank for rigging international bank offer rates – what the UK’s Financial Conduct Authority (FCA) calls “IBORs”. There are several of these rates: the best-known is Libor – “London Inter-Bank Offer Rate” – but there are also the EU’s Euribor, China’s Shibor and Japan’s Tibor. Deutsche Bank’s fine is specifically for the manipulation of Libor and Euribor.

Libor and its siblings are commonly known as the rates at which banks lend to each other. But that is not their most important purpose. What is far more important is their role as benchmark rates for the pricing of all sorts of financial products. The NY Department of Financial Services has a useful summary:

The London Interbank Offered Rate (“LIBOR”) is a benchmark interest rate used in financial markets around the world. It is the primary benchmark for short term interest rates globally, written into standard derivative and loan documentation, used for a range of retail products, such as mortgages and student loans, and the basis for settlement of interest rate contracts on many of the world’s major futures and options exchanges. It is also used as a barometer to measure the health of the banking system and as a gauge of market expectation for future central bank interest rates.

For traders, a move of a few basis points in a Libor rate could make an enormous difference to their profits. The incentive for them to manipulate rates is obvious.

Not that rate manipulation is solely the province of traders at investment banks. Until now, the largest fine issued by the FCA for benchmark rate rigging was issued to the UK retail bank Lloyds, which had the temerity not only to rig the Libor rate but also the repo rate used by the Bank of England to price emergency liquidity provided to, among others, Lloyds. The Guardian newspaper described this as “biting the hand that feeds it”.

It is now clear that manipulating benchmark rates has been so widespread in the banking industry that it could be described as “the way we do things round here”. Eradicating this practice will require not just severe penalties, but a fundamental change in attitude.

The record penalty given to Deutsche Bank is a combination of regulatory fines, civil and criminal penalties:

$775m criminal penalty from the US Department of Justice (DoJ)
$800m civil penalty from the US’s Commodity Futures Trading Commission (CTFC)
$600m regulatory fine from NY State’s Department of Financial Services (NYDFS)
$344m regulatory fine from the UK’s Financial Conduct Authority (FCA)
Note the involvement of the UK’s FCA. We are increasingly seeing cooperation between regulators in the US and UK in the investigation of global financial crime and misconduct.

Unfortunately, the EU has chosen to pursue its own investigation into Libor & Euribor manipulation, which is not yet complete. The slower pace of the EU investigation has undermined the NY DFS’s attempts to ensure that everyone involved in rate manipulation is “terminated and banned” from employment in financial markets:

Additionally, ten of the individuals centrally involved in the misconduct were previously terminated as a result of the investigation. Four of these employees were reinstated pursuant to a German Labour Court determination, and two of them remain at the Bank. Those employees that were reinstated due to the German Labour Court decision who remain at the Bank shall not be allowed to hold or assume any duties, responsibilities, or activities involving compliance, IBOR submissions, or any matter relating to U.S. or U.S. Dollar operations.

It is questionable whether the NY regulator has the power to enforce this for personnel based in Frankfurt.

Benjamin Lawsky, superintendent of the New York State Department of Financial Services. Photographer: Scott Eells/Bloomberg via Getty Images

It is also unfortunate that the German regulator BAFIN’s preliminary findings, released last year, were not shared directly with the US and UK regulators. BAFIN left it to Deutsche Bank to disclose them, which – unsurprisingly – it failed to do. Indeed according to the UK’s FCA, Deutsche Bank went to considerable lengths to conceal BAFIN’s findings:

Deutsche Bank gave the FCA misleading information about its ability to provide a report commissioned by the German regulator, BaFin. Deutsche Bank did not disclose the report to the FCA and claimed that BaFin had prevented it from being shared when this was untrue.

This was not the only piece of false information provided to the UK’s FCA:

In addition, Deutsche Bank provided the FCA with a false attestation that stated that its systems and controls in relation to LIBOR were adequate. This was despite the complete lack of IBOR systems and controls. It was known to be false by the person who drafted it.

The FCA says that its investigation was “made more difficult and was delayed because Deutsche Bank failed to provide timely, accurate and complete information.” And it goes on to describe what looks very much like deliberate concealment of evidence:

In one instance, Deutsche Bank in error destroyed 482 tapes of telephone calls, which fell within the scope of an FCA notice requiring their preservation. Deutsche Bank also provided inaccurate information to the regulator about whether other records existed.

So Deutsche Bank lied to the FCA, not once but many times. In fact it treated the UK regulator in the same cavalier manner that it treated the Dubai regulator over money laundering controls. And it seems to have treated its home regulator equally badly: in January 2014 BAFIN complained about the inadequate response of Deutsche Bank’s management to its own investigation into Libor manipulation. Regulators, it seems, can be treated with disdain.

But the US’s investigation is of a different order. This is from the CTFC’s press release (my emphasis):

This Order requires Deutsche Bank to pay a civil monetary penalty of $800 million, cease and desist from its violations of the Commodity Exchange Act, and adhere to specific undertakings to ensure the integrity of its LIBOR and Euribor and other benchmark interest rate submissions in the future.

So, in addition to the largest fine it has ever imposed, the CTFC has issued a cease-and-desist order. This is serious stuff.

And it gets worse. This is from the FBI’s press release for the Department of Justice (my emphasis):

DB Group Services (UK) Limited has agreed to plead guilty to one count of wire fraud, and to pay a $150 million fine, for engaging in a scheme to defraud counterparties to interest rate derivatives trades by secretly manipulating U.S. Dollar LIBOR contributions.

In addition, Deutsche Bank entered into a deferred prosecution agreement today and admitted its role in manipulating LIBOR and participating in a price-fixing conspiracy in violation of the Sherman Act by rigging Yen LIBOR contributions with other banks. The agreement requires the bank to continue cooperating with the Justice Department in its ongoing investigation, to pay a $625 million penalty beyond the fine imposed upon DB Group Services (UK) Limited and to retain a corporate monitor for the three-year term of the agreement.

Deutsche Bank has committed fraud. The UK subsidiary will face formal criminal charges, to which it has agreed to plead guilty. Deutsche Bank itself will not. But it is nonetheless as guilty as its subsidiary. A “deferred prosecution agreement” (DPA) is an admission of guilt. DPAs are often used in corporate fraud cases where the “collateral damage” from prosecution would harm people such as employees, shareholders and customers who did not benefit from the fraud. In this case, the Department of Justice has allowed Deutsche Bank to avoid prosecution by entering into a legally binding agreement which will be filed with the Connecticut courts. The seriousness of this case is indicated by the fact that the Department of Justice has ordered Deutsche Bank’s compliance with the agreement to be externally monitored: only about half of DPAs are externally monitored.

Journalistic reporting of this case has focused on the details of the communications between traders and Libor/Euribor submitters, which make for great salacious detail but sadly miss the point. The fact that traders and submitters were able to communicate at all in such an informal manner; the fact that submitters were also traders; and the fact that senior management not only knew about this but, when called to account, lied about it, shows the rottenness of Deutsche Bank’s culture.

BAFIN’s preliminary report exonerated co-CEO Anshu Jain from involvement in or awareness of benchmark rate manipulation. But how can a competent CEO be unaware of widespread fraudulent practices? As I’ve pointed out before, for top executives in banks “not knowing” is no defence. They are paid to know. Jain is culpable precisely because of his ignorance. He should resign.